Taxation of construction activity in Finland

Income taxation

Whenever a foreign company engages in a construction project in Finland that may take more than a few months, becoming subject to corporate income taxation in Finland is a possibility to be considered.

Taxation is straightforward if the contractor handles the project through a subsidiary established in Finland. In that case, the subsidiary’s income is taxed exclusively in Finland. The amount of income generated for the subsidiary will depend on the pricing mechanisms established between the subsidiary and its parent. In cross-border scenarios, such transfer pricing must be at arm’s length: The pricing must correspond to what non-affiliated entities would have agreed. Compliance with the arm’s-length principle must be well documented, with additional formal requirements in place depending on the extent of operations.

If the contractor does not act through a subsidiary in Finland, they may still be subject to taxation in Finland with the income generated in Finland if the contractor’s operations are such that they are considered to have a permanent establishment under Finnish tax law and applicable tax treaties.

Tax treaties are bilateral agreements between states that have the purpose of delineating each country’s right of taxation in cross-border cases, and to avoid the risk of falling subject to double taxation in different countries with the same income. Most tax treaties, including those made by Finland, follow more or less closely the OECD Model Tax Convention.

In general terms, a foreign company is considered to have a permanent establishment in Finland if it maintains a fixed place of business in Finland (e.g., site offices or equipment storage) through which the business is wholly or partly operated. The degree of control over the site, continuity, and the nature of the work carried out are relevant considerations.

However, according to most Finnish tax treaties, a building site, construction or installation project constitutes a permanent establishment only if its duration exceeds a specified threshold. This threshold is twelve months in most cases. In some cases, most prominently for the Baltic countries, a shorter six-month threshold is applied.

Separate projects may be aggregated when determining the duration threshold, especially if they are commercially or geographically coherent. For example, if a company undertakes several phases of construction on the same site or in close proximity under related contracts, tax authorities may consider them a single project. A foreign contractor may also be deemed to have a permanent establishment in Finland if they supervise activities on-site for a sufficiently long period, even if the actual building work is subcontracted.

If a permanent establishment emerges, the contractor becomes liable to pay Finnish income tax on the income attributable to the permanent establishment. This requires keeping separate accounts for the Finnish activity and may lead to obligations such as registering for Finnish corporate taxation, appointing a tax representative, and filing tax returns in Finland. Based on the tax treaties, taxes paid in Finland are taken into account in taxation in the contractor’s country of origin, either by crediting the amounts paid or by exempting the relevant income from taxation there.

Value-added taxes

As soon as a contractor has a fixed establishment in Finland, it is also liable to apply value-added taxes in Finland. The meaning of a fixed establishment in VAT added taxation is closely related to but not identical with the term “permanent establishment” in income taxation.

There is some degree of uncertainty as to what exactly is required for a fixed establishment to emerge. Finnish tax authorities prefer applying a nine-month threshold for individual or aggregated subsequent construction projects. However, this threshold is not based on a legal definition and may be challenged in future. In borderline cases, it may be prudent to register for voluntary VAT liability.

As a peculiar trait of Finnish VAT, a reverse charge mechanism applies to building work and related services under certain conditions. This system shifts the VAT liability from the seller to the buyer, aiming to combat VAT fraud in the construction sector.

The reverse charge applies on the sale of construction services (not goods), and it requires that the purchaser of the services is also a construction company (i.e., an enterprise that is engaged in the sale of construction services). Hence, the concept is tailored for the relation between a contractor and their sub-contractor in building work, although other scenarios may qualify as well.

Where the aforementioned conditions are fulfilled, reverse charge is obligatory. The subcontractor would charge their contractual fees without VAT, and VAT must be declared and paid by the purchaser. It is the responsibility of both parties to assess whether the reverse charge applies. Incorrect application can result in penalties or the obligation to pay VAT retrospectively.